What is Dividend Yield?

Dividend reinvestment and dividend yield

A High Dividend Yield Doesn’t Mean “Buy” and Here’s Why

If you’re serious about making money in the market and want investments that actually have a high-percentage chance of working, dividend stocks are your answer. But do they need to have a high dividend yield? Certainly not, and we’ll get into that more later.

Dividends have always been a huge part of stock market investing. In fact, between 1930 and 2018, dividends represented nearly half of overall market returns (about 43%). Prices go up and down and sideways, while dividends keep rolling in no matter what.

That’s why we say dividend stocks have been one of the most successful wealth building investments in history. Few people know this. In fact, a lot of people I know regard them as boring. They want to find the next Amazon or Microsoft. Some of them will. Some people will win the lottery too. It happens, just not to you.

Best Dividend Stocks Report Cover

Need Dividends?

Who doesn't? You can easily find them in this FREE Special Report:

Cabot’s Best Dividend Stocks

You get this free report and many others relevant to these current times when you sign up for Cabot Wealth Daily, our free wealth-building advisory.

 

What is Dividend Yield?

Plainly speaking, dividend yield is how much a company pays its shareholders over the course of a year of ownership, divided by its current stock price.

When you buy a dividend stock, you’ll receive a steady stream of income—generally on a quarterly basis. If the market crashes and the share price begins to fall, the nice 3% or 4% yield (or higher) will soften the blow.

There are specific corners of the stock market that provide high dividend yields. Income investors looking for above-average yields should consider investing in Real Estate Investment Trusts, also known as REITs. Many REITs have high dividend yields, and even better, REITs are among the biggest beneficiaries of declining interest rates.

However, a high dividend yield isn’t always ideal. Dividends are money. And money is one of those things where more is better. On the surface it may appear that the bigger the dividend, and higher the yield, the better. But that is rarely true. More often than not, a very high yield is a red flag.

The first thing that needs to be considered regarding a high dividend, or any dividend for that matter, is whether it is safe and sustainable. Often times, a yield becomes high because the stock price has fallen considerably. A stock price usually falls because of poor operational performance, which imperils its ability to sustain the dividend.

It is generally not wise to be allured by a 8%, 9% or 10% yield on a stock that will have difficulty maintaining the dividend and is less likely to grow it. Over time, you should fare much better with a more modest high yield on a company that can sustain the payout and likely grow it over time.

Reinvesting Dividends

Dividends are fantastic wealth builders, especially when you reinvest them. Reinvesting dividends has a compounding effect on an investment, delivering jaw-dropping returns over time. Reinvested dividends buy more shares of stock. More shares of stock pay still more dividends. And if the dividends grow and the stock price appreciates, the returns can be astounding.

Suppose you buy 1,000 shares of a $20 stock, a $20,000 investment. Also assume that the stock pays a 5% yield ($1 per year) when you buy it and over the next 10 years the dividend grows by an average of 5% per year. Let’s also assume that the stock price appreciates an average of 5% per year over the next 10 years.

If you just reinvest the dividends without adding another dime of your own money to the investment, that $20,000 investment will grow to over $53,000 in 10 years. And that’s with modest and realistic criteria. It would be like buying a home 10 years ago for $200,000 that’s now worth $530,000. Wouldn’t you think you made a brilliant investment?

Do you have other questions about dividend yield? Leave them in the comments below.

Subscribe to Cabot Dividend Investor if you want to receive income from your investment portfolio, now or in the future. If you need income now, you’ll focus on our current income recommendations from the Safe Income and High-Yield Tiers of the portfolio. If you don’t need income now but anticipate needing it in the future (or just want to put the power of dividend growth to work for you), you’ll focus on our Dividend Growth Tier, and may choose to reinvest your dividends—which you now know how to do!

Best Dividend Stocks Report Cover

Need Dividends?

Who doesn't? You can easily find them in this FREE Special Report:

Cabot’s Best Dividend Stocks

You get this free report and many others relevant to these current times when you sign up for Cabot Wealth Daily, our free wealth-building advisory.

 

 

Comments

You must be logged in to post a comment.